Motivating ESG Activities Through Contracts, Taxes and Disclosure Regulation
52 Pages Posted: 27 Jan 2022 Last revised: 17 Oct 2022
Date Written: October 15, 2022
Using a model where firm managers can influence the entire distribution over financial and ESG outcomes, we examine how ESG activities can be motivated through 1) contracts, 2) taxes and 3) disclosure regulation. Executive compensation contracts can produce changes in a firm's ESG activities, but these changes are limited by how much shareholders actually value ESG. Taxes can align shareholder objectives more closely with societal objectives, but only to the extent that ESG outcomes can be reliably measured; moreover, taxes can have potentially unintended consequences when the taxed outcome is correlated with other outcomes. Finally, disclosure regulation can empower markets to partially self-discipline by providing information about firms' ESG technologies, as this enables powerful ESG-conscious firms to compete against brown firms and cooperate with green firms. However, disclosure regulation can hurt ESG outcomes if powerful firms do not value ESG, and it has little effect when market power is disperse.
Keywords: ESG, CSR, shareholder welfare, taxes, ESG disclosure regulation, optimal contracting, executive compensation
JEL Classification: D86, M41, Q56, Q58
Suggested Citation: Suggested Citation